Sunday, February 19, 2012

National Review Goes on a Crazed Attack of Ron Paul Monetary Economics

Ramesh Ponnuru, senior editor of National Review, is out with a vicious hit piece on the monetary views of Ron Paul (Apparently after studying Austrian economics for two weeks.) The attack can only be described as ignorant and absurd. Salvatore Dali would be proud.

Perhaps it should not come as a surprise that Ponnuru assigned this task to himself. He has a graduate degree in history from Princeton University, which seems to specialize in monetary quackery. The economics faculty includes (or has included) such economic cranks as Paul Krugman (who most recently missed the call on the turning economy that was right in front of him) and Ben Bernanke, who as Fed chairman crashed the economy (see here, here, here, here, here, here, here and here) and is setting the economy up for one of the greatest price inflations in the history of the United States.

So what problems does Ponnuru find with Ron Paul monetary economics? Let us review.

Ponnuru writes:

In End the Fed, his 2009 book, Paul writes that a rotten monetary system underlies “the most vexing problems of politics.” In his view, any expansion of the money supply counts as inflation, whether or not prices rise.

He ignores to mention this is the classic definition of inflation. (Webster’s New World Dictionary (1957) defines inflation as follows: 2. an increase in the amount of currency in circulation, resulting in a relatively sharp and sudden fall in it’s value and a rise in prices: it may be caused by an increase in the volume of paper money issued or of gold mined).

Ponnuru then goes on to correctly identify other features of Ron Paul monetary economics:

Paul follows the Austrian school of economics, which holds that the expansion of the money supply (or, in some variants, the overexpansion of it) is the reason we suffer through business cycles. Loose money artificially lowers interest rates and misleads businesses about the demand for capital goods, causing them to invest in the wrong lines of production. Eventually the “false” or “illusory” prosperity of the boom gives way to a bust in which these malinvestments have to be painfully liquidated. Efforts to mitigate the pain merely prolong the necessary process. In End the Fed, Paul treats the entire period from 1982 through 2009 as “one giant financial bubble” blown up by the central bank. (At one point he dates its beginning to 1971.) Absent his preferred reforms, “we should be prepared for hyperinflation and a great deal of poverty with a depression and possibly street violence as well.”

Monetary expansion is also, for Paul, a key enabler of what he takes to be our imperialist foreign policy: The creation of money out of thin air allows the government to finance wars, as well as the welfare state. Central banking is a form of central planning, on his theory, and as such “incompatible” with freedom. Paul allows that “not every supporter of the Fed is somehow a participant in a conspiracy to control the world.” The rest of them, judging from comments repeatedly made in the book, have fallen for the delusion that expanding the money supply is a “magic means to generate prosperity.” Paul finds it baffling that anyone could hold this absurd view, but attributes it to Chairman Bernanke, among others.

So what does Ponnuru think of Dr. Paul's economics? He writes:

Almost all of the criticisms Paul makes of central banking, when stated in the axiomatic form he prefers, are false. To put it more charitably, he assumes that the negative features that monetary expansion can have in some circumstances are its necessary properties.

Ponnuru begins his attack:

Consider, for example, a world in which the Federal Reserve conducts monetary policy so that the price level rises steadily at 2 percent a year. Savers, knowing this, will demand a higher interest rate to compensate them for the lost value of their money. If the Fed generates more inflation than they expected, as it did in the 1970s, then savers will suffer and borrowers benefit. If it undershoots expectations, as it has over the last few years, the reverse will happen. The anti-saver redistribution Paul decries is thus not a consequence of monetary expansion per se, but a consequence of an unpredictedly large expansion. For the same reason, monetary expansion does not necessarily lead to less saving.

This indicates that Ponnuru has read perhaps one book on Austrian economics, but has no deep understanding. It brings to mind a Boston Bruins head coach who tells the story of taking under his wing for two weeks a cub reporter who was assigned to cover the Bruins and knew nothing about hockey. After two weeks, the reporter was writing columns criticizing the head coach's line changes.

The problem with a steady price level (if somehow that could actually be achieved over a long period of central bank manipulation) is that such a price level is the result of three components: Money supply, the demand to hold cash and productivity. Thus, if the Ponnuru desire to achieve a steady 2% price level is to be achieved during a period of high productivity, it would require huge amounts of money printing and result in massive capital-consumption structure distortions.

Ponnuru would have understood this if he had read Murray Rothbard's America's Great Depression. In AGD, Rothbard points out that prices were stable for the most part but actually falling in certain sectors through most of the 1920's, despite the fact that the Fed was printing money aggressively, because of high productivity.

One shudders to think how much more money the Fed would have had to print to achieve Ponnuru's goal of 2% annual price level increase.

Rothbard teaches that every dollar printed by the Fed, despite the price level, distorts the economy. Does Ponnuru need empirical evidence that this can occur? I direct him to the Great Depression itself.

Thus, by focusing on a fixed annual price level, Ponnuru fails to understand the key Austrian insight that ANY money printing, regardless of the price level results in distortions of the capital-consumption structure.

Here's Rothbard in AGD:

One of the reasons that most economists of the 1920s did not recognize the existence of an inflationary problem was the widespread adoption of a stable price level as the goal and criterion for monetary policy. The extent to which the Federal Reserve authorities were guided by a desire to keep the price level stable has been a matter of considerable controversy. Far less controversial is the fact that more and more economists came to consider a stable price level as the major goal of monetary policy. The fact that general prices were more or less stable during the 1920s told most economists that there was no inflationary threat, and therefore the events of the Great Depression caught them completely unaware.

Actually, bank-credit expansion creates its mischievous effects by distorting price relations and by raising and altering prices compared to what they would have been without the expansion. Statistically, therefore, we can only identify the increase in money supply, a simple fact. We cannot prove inflation by pointing to price increases. We can only approximate explanations of complex price movements by engaging in a comprehensive economic history of an era — a task which is beyond the scope of this study. Suffice it to say here that the stability of wholesale prices in the 1920s was the result of monetary inflation offset by increased productivity, which lowered costs of production and increased the supply of goods.

But this "offset" was only statistical. It did not eliminate the boom-bust cycle; it only obscured it.

In other words, after studying Austrian economics for all of two weeks, Ponnuru has no f'ing clue as to what he is talking about. Austrians understand problems are caused by money printing, even when the price level is stable, something Ponnuru doesn't even discuss.

Ponnuru goes on:

Paul’s contention that the Fed has continuously abetted the expansion of the state — its wars, its welfare, its attacks on civil liberties — is also false. The federal government uses its monopoly over the currency to finance very little of its spending.

Ponnuru writes this, apparently with a straight face, as US debt soars, as it does during most war periods:

Ponnuru then goes on to pull a Keynesian attack on gold:

The doctor’s prescription is as mistaken as his diagnosis. The drawbacks to a gold standard are well known. If industrial demand for gold rises anywhere in the world, the real price of gold must rise — which means that the price of everything else must drop if it is measured in terms of gold. Because workers resist wage cuts, this kind of deflation is typically accompanied by a spike in unemployment and a drop in output: in other words, by a recession or depression. If the resulting economic strain leads people to fear that the government may go off the gold standard, they will respond by hoarding gold, which makes the deflation worse.

This means that in his two weeks of studying Austrian economics, Ponnuru has also not read Henry Hazlitt's The Failure of the New Economics, which pummels the errors in the paragraph above. I mean Hazlitt pummels the Keynesian thinking that Ponnuru employs. Here's just the launch of Hazlitt's attack:

Section III of Keynes's Chapter 2 is less than a page and a half in length, and yet it is so packed with fallacies and misstatements of fact, and these fallacies and misstatements are so crucial to Keynes's whole theory, that it requires more than a page and a half of analysis.Keynes's argument in this section rests on three major confusions:

1.The word "wages" is sometimes used in the sense of wage-rates and sometimes in the sense of wage
income or total payrolls.

There is no warning to the reader as to when the meaning shifts, and Keynes himself is apparently un-aware of it. This confusion runs through the GeneralTheory,and gives birth to a host of sub-confusions and sub-fallacies.

2."Labor" is treated in a Marxian manner as a lumped total, with a lumped interest opposed to an equally lumped interest of entrepreneurs. This kind of treatment overlooks both the frequent conflict of interest between different groups of workers and the frequent identity of interest be-tween workers and entrepreneurs in the same industry or firm.

3.Keynes is constantly confusing the real interest of workers with their illusions regarding their interests.Take this strange sentence from page 14: "Any individual or group of individuals, who consent to a reduction of money-wages relatively to others, will suffer a relative reduction in real wages, which is a sufficient justification fort hem to resist it." (His italics.)To see how bad this argument is, let us try to apply it to commodities. We would then have to say, for instance, that if wheat fell in price relatively to corn, the wheat farmers would be "justified" in combining to refuse to accept the lower price. If they did so, of course, they would simply leave part of their wheat unsold on the market. The result of this would be to hurt both wheat farmers and wheat consumers .In a free, fluid, workable economy relative changes in prices are taking place every day. There are as many "gainers" as "losers" by the process. If the "losers" refused to accept the situation, and kept their prices frozen (or raised them as much as "the general level" had risen), the result would merely be to freeze the economy, restrict consump-tion, and lower production, particularly of the goods that otherwise have fallen relatively in price. This is preciselywhat happens in the labor field when the members of a single union refuse to accept a "relative" reduction of realwage-rates. By refusing to accept it they do not, in fact,improve their position. They merely bring about unemployment, particularly in their own ranks, and hurt their own interests as well as those of the entrepreneurs who employ them.Keynes remained blind to the most glaring fact in real economic life—that prices and wages never (except perhaps in a totalitarian state) change uniformly or as a unit,but always"relatively."

Ponnuru then goes beyond Keynes and tells us that "Central banking is not central planning...", but then goes in Dali like fashion to discuss a central planning role for the central bank:

Considerations such as these have led some monetary economists to favor a rule that would commit the monetary authorities to stabilizing the growth of spending.

Having run out of theoretical absurdities. Ponnuru closes with another vicious attack on Ron Paul:

The Fed could have corrected for this excess and then gradually reduced the growth rate of nominal spending to eliminate all long-term inflation.

Instead, starting in mid-2008, it allowed nominal spending to drop at the fastest rate since the depression within a depression of 1937–38. It even discouraged the circulation of money by paying banks interest on their reserves. The consequences of these decisions have been many and horrible. Among them are booming book sales and credibility for a congressman who does not deserve them.

And that's the view you get from a writer who pretends to understand Austrian economics, but who has clearly not read Austrian economist Murray Rothbard on distortions in the consumption-capital structure in relation to price levels and who has clearly not read Austrian economist Henry Hazlitt who has demolished Keynes' view on wage levels.

I humbly suggest that Ponnuru give up economics and take up abstract painting of elephants. He could likely master that in two weeks.

Wow, what a compendium of cluelessness. Ponnuru simply can't think in a logical or factual way about economics. How pathetically non compos mentis do you have to be to deny the obvious about central banking as a central planning scheme for money and credit. Does he really get it and is just trying to confuse the mindlessly patriotic, warmongering neocons who read his publication? Nah, he believes this nonsense and so do most of his ilk. Thats why the political establshment as it is currently constituted will only make things worse.P.S. The guy is a lousy writer too.

1) I've read America's Great Depression.2) Whether or not monetary expansion to produce a steady 2 percent inflation rate can introduce distortions into the economy--something, by the way, I never deny--has nothing to do with whether Paul is correct to make the specific claims that I dispute (that even such a steady rate would amount to stealing from savers, etc.)3) Your graph doesn't, and can't, prove anything about the relation between monetary policy and government debt.4) Almost none of the quotation from Hazlitt on Keynes is on point. It is true that I believe the empirical evidence suggests that wages are sticky downward, and that Keynesians also believe this.5) Someone who calls people whose views he dislikes "crazed," questions their intellectual abilities, swears at them, etc., is probably not the best situated to describe his target's words as "vicious."

"2) Whether or not monetary expansion to produce a steady 2 percent inflation rate can introduce distortions into the economy--something, by the way, I never deny--has nothing to do with whether Paul is correct to make the specific claims that I dispute (that even such a steady rate would amount to stealing from savers, etc.)"

Inflation does make it harder and less likely that people save, this is fact. And since the government has a monopoly on currency and people can and have been tried in courts for distributing private currencies, it is correct to say that any dilution of a money is stealing because the people have no real choice in currency. They're locked into two possibilities they can hold other government currencies, which are also subject to taxation as well as foreign government inflation, or commodities which are not liquid and also subject to capital gains taxes. This skews any attempt to save towards dollars, which are diluted more and more every day and every year. And the poorer you are the more it affects you.

"3) Your graph doesn't, and can't, prove anything about the relation between monetary policy and government debt."

Wenzel is correct in his pronouncement, but I'd admit he didn't do a good job explaining it in his response. Bottom line, the massive debts that governments build up are impossible without central banks. For someone that's supposedly studied this, that you deny this is kind of funny.

"4) Almost none of the quotation from Hazlitt on Keynes is on point. It is true that I believe the empirical evidence suggests that wages are sticky downward, and that Keynesians also believe this."

The point, which you missed, is that wages and wage rates are subject to change, whether they are inflating or deflating, which in the context used here means rising or lowering in nominal terms. To say that lower nominal wages or wage rates are evil without taking into account the value of the medium of exchange is a huge mistake. Hazlitt is pointing out that prices for labor, whether they end up higher or lower, eventually equilibrate.

"5) Someone who calls people whose views he dislikes "crazed," questions their intellectual abilities, swears at them, etc., is probably not the best situated to describe his target's words as 'vicious.'"

So what? National Review has said similar things to people they dislike in the past. Just because they, and in this case, you, don't like it when someone does it back means that you don't have the stomach to take it, and you shouldn't be dishing it out in the first place.

1) Baloney Comrade. The first three chapters of AGD cover all of your misconceptions.

2) OMG you intellectual hag. On the one hand, you claim not to support a steady price level - which is good, because it's a really really fekking dumb idea - but deftly with the other hand you claim that a steady price level doesn't steal from savers. Well no, it doesn't, if the price level (whatever it is) remains steady due to the voluntary interactions of market participants. In other words, if it comes about unplanned in liberty, then of course it steals from no one. Can your little mind even comprehend that?

3) You got us. A graph isn't a proof. Well I'll be damned. Nobody at the National Review has EVER tried to pose a graph as a proof. That would NEVER happen, right? You piece of garbage. A graph is used as evidence of a causal relationship, but can never be a proof alone. But it doesn't take a fancy graph to know that government spending must come from somewhere. If you deny that, you're crazy enough to work at a commie propaganda rag.

4) How freaking hard is it to understand sticky wages? Is this really rocket science? I swear to god economists like you would last all of five minutes in my line of work. You have to be the densest people on the planet. Wages are sticky downward because of government imposed wage floors that reflect human desire to maintain an existing standard of living. Is this really that difficult? Remove the government violence and people will learn that lower wages does not necessarily mean lower standards of living (since prices of things they buy typically fall faster than their wage in a free market - or do you dispute that too?)

Wow, sticky wages solved by a non-economist with a brain in 4 seconds. What is so darn hard?

If you are going to point to Ron Paul's "paranoia" in your article, then you should have to deal with the blowback. Your general theme about RP is pretty interesting, considering the track record of RP's economic predictions compared to the keynesians you agree with. Here is one example of him calling the Housing Bubble years ahead of time, while those who you agree with were largely left clueless:

http://www.youtube.com/watch?v=AdJhHsAdXro

I don't even have to get into how much that rag you work for milked the "RP said racist things" nonsense from the same magazine that WFB wrote far, far worse things over several decades time. Don't come here and whine when someone destroys the argument you started.

If I were you, I would admit you were in over your head and pretend Wenzel doesn't exist, sort of like that genius Jonah Goldberg did years ago to Lewrockwell.com after he picked a fight with them and was stomped into submission.

Ramesh, why aren't you a leftist democrat? It seems you share everything ideologically with them. Is it abortion? Or, wait, it's weed, isn't it? Or no, it's the homo's getting married isn't it? But wait, Obama hasn't done anything on those fronts, either. You're a strange breed over there at NR.

Complete destruction of Neo Con Review. Those clowns can't be taken seriously on anything, especially given the decades of racist comments WFB made while the people at the same magazine and others who view him as a hero are supposedly "outraged" over the RP newsletters.

Great job exposing this clown as having the same econ mindset as Krugman and other far left morons.

The federal government uses its monopoly over the currency to finance very little of its spending.

Really?

As Daniel Kuehn has so amply demonstrated, the first big post-Fed recession was the result of the government’s First World Slaughterfest boom followed by the post-slaughterfest bust. (Nothing in his article about a “free market” having a “structural” problem with unemployment. Mr. Kuehn apparently thought he was putting the nail in the coffin of Austrian Economics).

2. The austerity depression of 1920–21

DuringWorldWar I federal expenditures ballooned and although the new income tax was able to partially finance the war effort, most of the financingwas done through federal borrowing and by the highly accommodating monetary policy of the Federal Reserve. The role of the Federal Reserve at this time was expressed unambiguously by the New York Federal Reserve Bank Governor Benjamin Strong, who told a Congressional committee in 1921 that ‘I feel that I, or the bank at least, was their [the Treasury’s] agent and servant in those matters’ and further added that the wartime inflation caused by the low interest rates maintained by the bank were ‘inevitable, unescapable, and necessary’ for prosecuting the war (Strong, 1930).

However, after the war ended the deficit spending of the Wilson administration and the expansionary policy of the Federal Reserve were sharply curtailed to bring a halt to the inflation. By November 1919 the Wilson administration balanced the federal budget, slashing monthly expenditures by almost 75% in a matter of months.4 The New York Federal Reserve Bank raised the discount rate by 244 basis points over the course of eight months, with other Reserve System banks following suit. Shortly after these austerity measures were taken, the 1920–21 depression was under way. Postwar industrial production in the USA peaked in January 1920 as the economy moved into a major depression, with production levels dropping by 32.5% by March 1921.5 This loss in output is second only to the Great Depression in American economic history (Romer, 1999), although its duration was considerably shorter. Declines in output were matched by precipitous drops in employment and the price level. The proximate cause of the 1920–21 depression was a deliberate fiscal and monetary retrenchment following World War I.

It's funny that Ron Paul is outing these so called conservatives as nothing more than shills for the federal reserve. Robert you know that their real problem with Ron Paul is his foreign policy views because the ignorance on monetary matters is only eclipsed by Little Frummer Boy.

It's hilarious to see this weekend warrior Ramesh show his absolute ignorance and that he doesn't really believe in limited government.

You're most likely right as it is obvious that Ramesh doesn't know his ass from a hole in the ground as it pertains to economics. He should just keep with the, "we must police the world" schtick and leave economics to someone a little more learned.

There are many "popular" political reasons to support central banking, from the conservative perspective of supporting order in the face of the demos desire for cheap credit for material ends. It often, when managed within reason, does generate popular support, witness the 20th Century.

People do hate taxes, of course.

Nevertheless, the central conservative point Ron Paul makes is that if you want a welfare program or a war, tax to pay for it and let politics sort the decisions out.

RW, you're the best. I'd just like to add that once I discovered capital theory and came to understand the disequilibriums that occur in the structure of production, attacks like Nununununu's (whatever that commie's name is) just roll off.

Such concepts make his superficial pleading for price stability look absolutely ridiculous. He's an intellectual midget when compared to the Austrian School. In other words, he's a Party Member, comrade.

Mr. Ponnuru was a history major at Princeton, but presumably never covered monetary history and the catastrophic experiments with paper money in so many parts of the world, to numerous to recount here, except for one.

I just read an Elgin Groseclose account of his experience in Iran in the 1940's. Groseclose was the first financial editor of Fortune Magazine, and also served as a Washington economist.

As background, in 1294 AD, Kai Khatu, the Mongol ruler of Persia, on the advice of his vizier, introduced paper money into the country. This action aroused such resentment among the merchants that A RIOT ENSUED. THE VIZIER WAS SEIZED BY THE MOB, TORN TO PIECES, AND THROWN TO THE DOGS. The edict establishing paper money was withdrawn and no Persian monarch, until the twentieth century, again dared to impose paper money on his subjects. The common medium of exchange throughout that time was silver of high purity. Paper money was an alien device until 1931, when the modern-minded Reza Shah withdrew and melted down all the silver coinage in circulation, replacing it with paper currency. Reza Shah lost his throne just ten years later. Iran's parliament then appointed Elgin Groseclose as Treasurer-General to clean up the mess left by Reza Shah, which he did by reintroducing gold into the monetary system.

But, of course, Mr. Ponnuru knows better. If, as Mr. Ponnuru claims, buyers of Treasuries are supposed to demand a higher interest rate if they know there is 2% inflation, then why hasn't China demanded it of their purchases? Why doesn't the Fed, when they buy up part of the Treasury debt? In fact, the very thing that Mr. Ponnuru claims WOULD happen HASN'T happened. Nowadays Fed chairman are preselected based on their published comments that through some cockamamie rationale posing as economic theory give the wink and nod to the Administration that they will be willing to print "as needed", and it's always needed, somehow.

"The problem with a steady price level is that such a price level is the result of three components: Money supply, the demand to hold cash and productivity. Thus, if the Ponnuru desire to achieve a steady 2% price level is to be achieved during a period of high productivity, it would require huge amounts of money printing and result in massive capital-consumption structure ditortions."

Nowhere does he say that he desires a steady price level. In fact, he's a well known avid critic of it. He even criticizes a steady price level for the exact reasons you gave. He goes on to endorse "stabilizing the growth of spending" (Nominal GDP) to overcome the pitfalls of a steady price level.

Ponnuru says, "Considerations such as these have led some monetary economists to favor a rule that would commit the monetary authorities to stabilizing the growth of spending. Inflation would be allowed to go up or down in response to productivity shocks, and the money supply would be allowed to go up or down in response to changes in the demand for money balances."

Did you miss that part? Under nominal gdp targeting, if there's a huge productivity shock, a fall of prices would be allowed. If there's a negative supply shock, prices would be allowed to rise.

Bob, if he had spent Ponnuru indeed spent 2 weeks studying Austrian economics his piece would not have been half as disastrous. A 4 hour mp3 recording of a Rothbard lecture would have sufficed! But, I don't think that his idea ever involved him understanding AE. He is just a goon working to discredit an ideological opponent of the establishment. It's a practice that the modern iterations of the party police (KGB) in communist countries has long ago been employing.

"In his view, any expansion of the money supply counts as inflation, whether or not prices rise."

Inflation is the necessary result of expanding the supply of money through fiat. As Wenzel correctly observes, the fact that the price fluctuations can be delayed or obscured by other factors, e.g. productivity gains, does not undermine the axiom that printing money necessarily causes inflation.

"Bernanke can’t be convicted of record inflation defined as price increases"

Two things. First, increased inflation is on its way. Second, Bernanke did artificially prop up the precipitous drop in housing prices that should have followed the mortgage market meltdown. Instead, housing prices in many markets are still much too expensive relative to incomes. From my perspective, it matters little whether the monetary expansion is accompanied by inflating steady market prices, or by propping up falling market prices that should have fallen faster and steeper. Either way the market suffers distortions and those distortions undermine productivity.

All of this idiocy is predicated on the idea that decreasing prices are somehow evil, and that anything and everything that can be done to prevent prices from falling is good.

The reason that stable prices in the 1920s were not a good signal, and were supposedly "masking" the printing of money by the Fed, is because a decreasing price level is NORMAL as efficiencies of manufacture and distribution increase.

The National Review article is entirely predicated on this fallacy of "stable prices". Destroy that, and not only is the article shown for the nasty hit-piece it is, the author is revealed as an idiot.

One interesting thing about Salvador Dali is that he would sell and/or create more copies of paintings than he claimed when selling them to collectors, thereby reducing their value. It sort of sounds familiar to readers of this blog and the subject at hand, right?